On 27 May the amended draft law concerning the controlled foreign companies and other anti-offshore measures became publicly available. The draft law differs fundamentally in many respects from the draft law published before 18 March, and after its approval the amended draft law becomes one of the most essential changes in the area of the foreign structures taxation and the struggle for tax evasion.
The draft law includes several points, and each point is individually worthy:
1. Controlled foreign companies;
- Beneficial ownership;
- Determination of residency by company’s place of management;
- Taxation of indirect real estate sale.
1.Controlled foreign companies
In comparison with the previous draft law, discussions concerning trusts involvement in the scope of controlled foreign companies (CFC) legislation have been suspended. As we have supposed, they fall within the scope of the legislation and are directly stated now in the draft law.
In addition, methods for determination of companies coming with the provision of law has been changed conceptually – instead of the ‘black list’ principle which could have been relatively easily exercised by means of the beneficial tax treatment in countries which were not included with the ‘black list’, the principle of the law enforcement in respect to all companies excluding separate groups of companies is being introduced now.
In particular, the following companies are not subject to CFC rules:
- A) Company and their subsidiaries which have undergone listing procedure and are listed on exchange from the list of the Central Bank or the Ministry of Finance of the Russian Federation. There is no such a list nowadays, but the Moscow Exchange will be included with the list for sure. Thus, CFC application difficulty is theoretically may be resolved by listing of top holding company on the Moscow Exchange. In this case the greater information about the structure shall be disclosed.
- B) Resident companies of the Eurasian Economic Union. Besides Russia, Belarus and Kazakhstan are within its members. Armenia and Kyrgyzstan have intended to join the Union. None of the countries is the classic tax planning jurisdiction and is not used for tax optimization in the holding structures.
- C) Companies from the ‘white list’ paying taxes efficiently at the rate no less than 15 percent. The list is to be drawn up by the Federal Tax Service based on the practice of real replies to information requests of the foreign tax authorities. Herewith, presence in the ‘white list’ is only one condition. The second condition is the effective rate to the amount of 75 percent of the Russian rate, i.e. 15 percent. This condition will be met rarely, as, first of all, Cyprus and Ireland frequently used in the tax planning have the rates of 12.5 percent. Many Swiss cantons and trade companies have lower rates under the tax rulings, and the projected total rate of 13.6 percent following the results of the tax reform will be lower of the rate required by the Russian legislation. Secondly, dividends being frequently exempt from taxes are included with the base for the effective interest rate calculation, and it will decrease the effective interest rate significantly making required 15 percent almost unachievable.
Foreign assets notification
The draft law provides the necessity to notify about any events of ownership of a foreign company for 1 percent or more, or control over a company/trust or similar structure, rather than ownership of foreign companies.
The threshold whereby a Russian tax resident shall pay CFC income tax remains at the level of 10 percent.
The amendments determine the beneficial owner as an individual/entity entitled to own, use and dispose income taking into account functions and risks the individual/entity bears. If the individual/entity has the limited authority and exercises only intermediary functions without exercising other functions or bearing risks, the individual/entity will not be recognized as a beneficial owner and will not be entitled to make use of benefits under the international tax agreements. Burden of proof will be actually imposed on the tax agent paying income.
It shall be noted that the present requirement relates not only to the benefits which directly provide the requirement for the status of beneficial owner in the corresponding provisions of the international tax agreements, but also to all benefits under the international tax agreements. Technically it is a limitation for application of tax agreements, but in practice the similar approach of the Ukrainian legislator has resulted in application of the present test as to benefits where the tax agreement had no requirements for beneficial ownership, and in loss of cases, in particular, the cases of Fenix-Capital and Niko.
The decision is to revise the structures providing foreign companies with the real functions and risks, to allocate qualified specialists, i.e. to establish the real business abroad.
3.Determination of residency by company’s place of management
The present measure has been discussed long enough. Its implementation will also be the effective way to recognize offshore and other non-resident companies as the Russian taxpayers, if the actual management of such companies is carried out in Russia. In particular, in Belarus the similar provision is exercised in practice by interviewing of employees within the framework of tax and operational procedures, including top management. If it is find out that the effective management of offshore company is carried out by Belarusian company, the additional tax is charged.
Accordingly, delegation of self-decision powers to foreign company and waiving the company’s direct management from Russia may be the solution to the present issue.
4.Taxation of real estate transactions
Article 309 of the Tax Code of the Russian Federation has been amended, which provides taxation of income not only from sale of shares/interest of the Russian companies which assets consist of the Russian real estate for more than 50 percent, but any companies which assets, directly or indirectly, consist of the Russian real estate for more than 50 percent. It will prevent selling the Russian companies under the pretence of foreign companies. It shall be noted that the corresponding amendments have been introduced to the international tax agreements made by Russia with Cyprus, Luxemburg and Switzerland, and are expected in relation to the tax agreement with Netherlands. Accordingly, changes of the Russian taxation rules will not be the violation of the tax agreements being used more frequently.
These are the most urgent amendments only. They will influence the majority of the Russian and non-Russian residents.
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